Prerequisites for Scalable Carbon Trading

AI and Satellite-Based Verification of Carbon Offsetting Projects

This article was also published as a whitepaper by CollectiveCrunch.

Abstract

This whitepaper gives an overview of current practices in carbon verification, certification and trading. The focus is on carbon storage via trees and forests.

The paper argues that current practices do not meet the needs of corporate voluntary investors in carbon storage and are not adequate for the scaling in carbon trading required. It will argue that CollectiveCrunch’s Linda Forest technology can make carbon trading simpler, more up-to-date and scalable, giving corporate carbon investors the tool they need.

1. Introduction

Carbon trading is an effective solution for reducing the carbon footprint of a business, organization or country. Recently, many prominent businesses, including Google, Amazon, Siemens and Microsoft, announced ambitious CO2 goals of carbon neutrality — even carbon negativity.

These types of reductions imply offsetting millions of tons of carbon dioxide. In fact, to have an impact on global climate change, even these levels are not enough but billions of tons of CO2 will need to be extracted from the atmosphere.

To achieve these levels of reductions within a few years, many leading companies find carbon trading a great way to support other climate actions. In this whitepaper we have collected information useful for any organization interested in the carbon markets.

Carbon trading essentially involves using CO2 reductions in another activity to offset a company’s own emissions. Typically, this means monetary investments in sectors where it is possible to increase the capture of carbon dioxide or to reduce carbon emissions. Sometimes reductions of other atmospheric gases are also used and subsequently converted into equal amounts of carbon reductions. However, this paper will only address carbon trade. We refer to this kind of trade conducted by a company that is not legally obliged to do so as “voluntary trade”1.

This paper will cover four main topics related to the voluntary carbon trade:

  • Carbon footprint — baseline level
  • Reduction and removal projects
  • The current process of credit registration
  • How carbon trading can be improved.

We will strongly focus our argument on the field of using forests to capture carbon from the atmosphere, storing the carbon in trees and the related carbon trading.

Chart 1: Visualisation of carbon trading process

2. The carbon footprint — baseline level

In order to become carbon neutral, a company needs to know its baseline level. To calculate the carbon footprint of its operations, the company needs to consider various aspects of its operation, often including the resources and materials, manufacturing processes, electricity and employees.

Usually, these processes are labelled as scope 1, 2 and 3 emissions:

  • Scope 1: The direct emissions from the company’s operations
  • Scope 2: The indirect emissions related to electricity, cooling and heating
  • Scope 3: All other indirect emissions, such as employee commute and purchased goods and services

Measuring the baseline level

It can be challenging to accurately estimate all these emissions. Many larger companies use sophisticated software, such as Life Cycle Assessment (LCA) tools. Typically, the companies also utilize external industry guidelines and tools, such as the GHG Protocol provided by the World Resources Institute. In addition, before going public with baseline data, the reported emissions and calculation methods are audited by a third party. Numerous auditing companies also verify carbon footprints — for instance Ernst & Young audit Siemens’ footprint and KPMG Nissan’s.

Selecting the reductions goal

When all the emission assessments are done and most emissions are known, the company can choose its baseline emissions for goal setting. Both the baseline year and emissions categories can be chosen. These decisions will affect the goal, usually expressed as percentage reduction from the baseline level.

In current practice this leads to reporting a lower baseline level than if all the emissions were strictly considered. Commonly the emissions across the scopes are considered as follows:

  • Scope 1 emissions: all of these are included in neutrality calculations.
  • Scope 2 emissions: can be chosen either as market-based or location-based value. Market-based values only include emissions of the company’s choice of electricity provider (instead of looking at local electricity provider’s emissions). Consequently, a company can reduce its scope 2 emissions by choosing a less polluting electricity provider. This option is especially common in the US.
  • Scope 3 emissions: some companies ignore these values altogether when setting CO2 reduction goals. Many companies, such as Microsoft, choose to only look at emissions generated through business air travel. Indeed, accounting for all scope 3 emissions would make reaching neutrality goals quite challenging. For example, Verizon’s scope 3 emissions in 2017 were almost six times of scope 1 and 2 combined. Instead. The company chose to include only a segment of those emissions.

Many companies have also started providing their customers with an opportunity to pay extra for a carbon neutral transaction. This practice is increasingly common in the aviation industry. In this way the customer can directly reduce the footprint of the transaction via a premium. For example, United Airlines allows its customers to directly buy credits created in a forest restoration project in Colombia. The flight footprint is calculated with the same methods as the company’s own footprint, based on ISO international standards.

Chart 2: The Iceberg Effect — current practice ignores substantial scope 3 pollutions

3. The reduction and removal projects

Reduction and removal projects are the center of the offsetting process. Forestry is a popular method of capturing CO2 as it is at this stage of development the most efficient method of extracting CO2 from the atmosphere. In fact, 56% of voluntary credits issued in 2018 were related to forestry or other land use.

Other common types of projects include

  • fuel switch to renewable forms, such as biomass
  • clean drinking water, reducing plastic waste
  • solar and hydro energy

The two most significant categories are forestry and renewable energy.

Chart 3: Project types by volume of credits, 2018

Measuring the project

It is essential to accurately account for the CO2 capture via carbon projects. However, the method of estimating the project’s carbon capture depends on the nature of the project.

Sometimes statistics and known benchmarks are used to quantify projects. This is especially true in energy related projects. Yet sometimes, more extensive investigations, such as field visits or high-resolution images, are needed for these estimations. For example, in forestry, factors such as the age of the forest and the dominant species affect how much carbon it captures.Today, the method of choice for validation is forest visits and certificates issued based on estimates from such field visits. The high costs of validation via field visits makes a substantial share of potential projects economically unviable.

Proving the additionality

A project must lead to either reductions in CO2 emissions or increases in CO2 sequestration. This key requirement of added capture of the project is called the “additionality” of the project.

Additionality is initially estimated as the difference between the carbon budgets with and without the envisioned project.

The additionality needs to be proven before the project can be certified. There are three main ways to do this:

An example of a project is the maintenance of a forest area. Initially, the forest is maintained with a profit-maximizing logging pattern. This means often two thinning-out loggings and one final logging conducted as soon as it becomes the most profitable option. However, since a significant portion of the carbon is potentially re-released at the time of logging, the project plan could be to postpone the final logging. The additionality in this case is the additional carbon stored in the target forest for a specific time. Here, the added investment by a company makes the change in logging pattern economically feasible (investment analysis) and is therefore judged as additional.

The resulting difference in carbon sequestration between initial capture and estimated project-attributable capture can be used as carbon credits by the project-funding businesses. The projects are then monitored at intervals and validated at the end of their contract times. Currently, the common practice is to hold a share of credits until the end of the project to ensure that they correspond to actual reductions.

Two ways to build projects

There are two main ways businesses can voluntarily use projects to counterbalance their greenhouse gas footprints:

1. Using existing projects

Using an already existing project is often the easiest way to start. There are many commercial carbon reduction services, operating multiple projects from which the customer can choose the most suitable one or a mix of projects.

After a share of such a project is purchased, the service provider issues a statement of credits to the customer. The carbon service provider needs to also acquire a stamp of approval from one of the many “carbon standards”. Sometimes this process is only finished when a customer is already found.

Some carbon standards also allow businesses to purchase credits directly through them. In this case, the project is already verified and registered with the standard.

2. Creating new projects

Many bigger companies, such as Google, also develop their own projects. Typically, the business is in contact with a national or local authority or a business owner to cooperate in carbon reductions.

These kinds of partnerships are mutually beneficial: the project wouldn’t usually have been possible without the investment and the company can claim carbon offsets. In addition, supporting local development creates visibility and good image for the business.

The cost of projects

Different types of projects sell credits at different prices. Typically, projects where the impact is more tangible, such as clean-burning cooking stoves in developing countries or afforestation of depleted nature areas, prompt a premium price. On the contrary, transportation and waste disposal projects tend to have lower prices.
In addition, credits certified through multiple carbon standards, such as VCS and CCB, often cost more. Finally, the number of credits purchased also counts. Buying in bulk often gives discount to the buyer. For example, JPMorgan bought more than 180 000 credits from a forestry project in 2018. The unit price is then likely to be lower. Below is the breakdown of project prices in 2018.

Chart 4: Prices for example offset types

Three types of forestry projects
- Forest activities fall into three categories:

  • Afforestation projects where new trees are planted in previously unforested areas. Some projects require the planting of new forests to be recent whereas some allow for trees planted after 1990 to be included. Usually, these types of projects prohibit any thinning or harvesting activities during the contract period.
    A problem in afforestation projects is “leakage”, where reductions from the project lead to increased emissions elsewhere: e.g., sometimes the cropland that was already absorbing CO2 is converted into forest.
    Afforestation projects take a long view as carbon is only beginning to be captured after 5–8 years as trees reach meaningful sizes. There is a broad consensus that afforestation projects are simpler in additivity terms but economically inferior due to very long lead-times, the requirement to purchase land and the complexity of changing the land-use declaration in many countries.
  • Sustainable forest management projects, also known as Improved Forest Management, wherethe carbon sequestration is kept high by restricting commercial thinning and harvesting. Another class of sustainable forestry is reforestation, where previously harvested or through natural causes depleted forest is conserved. All in all, the goal is to increase the wood density and quality. The forest is monitored to verify the CO2 capture, the requirement is often that the sequestration must exceed reductions resulted from fires, damage or harvesting. Usually, the forest must be certified as sustainably managed before approval for these projects. These projects have the highest average price per metric ton of any project type, trading at 8.15 USD in 2018.
  • Long-lived Wood Products projects that target the end use of the already logged trees. The carbon will be retained at a much higher rate in laminated wood products used as building materials than if made into pulp, for example. Therefore, credits can be earned on wood that is used to produce these kinds of “long-lived wood products”.

The large selection of projects allows the buyer to find a good fit. However, due to the lack of common regulation, it is also important for the buyer to pay attention to the quality and reliability of the credits offered.Accordingly, many companies only buy credits certified by a carbon standard.

While all credible initiatives and projects should be welcome, we would like to point out that afforestation has significant shortcomings relative to Sustainable Forest Management in that purchase of land, repurposing of land and planting can take several years. In addition, seedlings take 5–10 years, dependent on species and local climatic conditions to even start making an impact in terms of carbon sequestration. The high capital needs, administrative barriers and long timelines point towards Sustainable Forest Management as the superior method for scaling carbon capture to the levels required to mitigate climate change.

4. The Current Process of Credit Registration

After the project plan has been established, it is sent to one of the carbon standard organizations. This enhances its credibility and the value of the credits created. Gold Standard, Verra and CCB are strong players in the carbon standard markets, accounting for over 80% of market share of projects. The carbon standard then assists the project developer in the following three steps.

1. Validation

The validation is the step where the initial project plan is inspected and approved by a third-party auditor. The third party is public and usually affiliated with or approved by the UNFCCC or the local government.

The business wanting to buy carbon reductions usually does not need to be active at this stage: the established standards, such as Verra, have their trusted auditors and processes for the validation.

However, the project developer still needs to provide all the necessary documentation regarding the current state of the project, monitoring plan and future estimates for two scenarios — with and without the carbon project. Sometimes also, the developer needs to do additional investigations, such as consultations by field experts or manual measurements. if the companies decide to compose a project and set the standard themselves, they also need to provide this information and acquire third party approval through independent auditing.

The validation step is important and sometimes rather costly, therefore favoring larger projects.

2. Registration

Only if the auditor validates the project and the monitoring plan, can it be registered. If an existing standard was used, the project usually stays in their register. Otherwise, the company may have their own register.

Once the unit is registered, it can be used to offset emissions and sold to the buyer. It may be also sold secondarily through a broker. What is important is that the register is kept up to date of the state of the credit. The used credits are sometimes automatically cancelled or retired from the registry or, in some cases, need to be manually reported by the user back to the registry. This way one unit will only be used once.

3. Verification

When the project is registered and started, it is monitored according to the monitoring plan set in the beginning. This is to ensure that the project proceeds as planned and that the forecast reductions are taking place. If the project is performing as it should, the standard will keep the certification.

The high costs of verification lead to verification cycles of 5 years and more. This results in considerable uncertainty between verification as the forest might have been impacted by unplanned events. Moreover, the 5-year verification cycle creates ambiguity for corporates that wish to report carbon-related initiatives on an annual basis.

One of the main concerns and requirements is assuring the permanence of the reductions. This requirement often calls for active maintenance. For example, forestry projects sometimes need thinnings to ensure a good tree density. Also, projects might be impacted by fire, storm or bark beetle damage.Moreover, many forestry projects have long contract periods to ensure permanency, in some cases 20–30 years — even up to 100 years with Verra and CAR.

Only once the project has been verified, can it continue until next verification period.

It is important to note that this process derives from multi-year government initiatives and is not geared to the practical needs of a supply chain and trading as one find in a commercial context. Moreover, this process evolved over the past 30 years and does not fully reflect advances in remote sensing, data processing and analysis.

Summary of project registration:

  • Firstly,the project owner makes initial assessments and inventories that are then validated by a third-party auditor.
  • The carbon standard registers the project and acts the middleman between the developer and the auditor.
  • After the project starts, inspections are carried out every few years by the project developer.
  • The reports are sent to the auditor that needs to verify them for the standard to still approve the project.

5. Shortcomings of the current system

Summary of Principle Problems with the Current Process

As we have explained, creating a forest project is currently a costly, lengthy and one-off process. Below, we will explain how a simpler approach and method could work.

Chart 6: Problems of Current Process

6. Towards a Scalable Carbon Trading Solution

The underlying intentions and principles of the carbon trading regime are sound:

  • Economically, a carbon trading approach is the best way forward as it allocates resources efficiently
  • Setting a framework of what counts towards carbon trading and what not (additivity, the wide range of possible methods) is necessary for a functioning market
  • The policy approach of requiring verification of results is a prerequisite for investors and traders to participate.

From a technical point of view, the problems of the current practices and processes are with the lack of scalability, cost of verification and lack of transparency. The current system’s fundamental building blocks originate in the 1990ies and were formally established with the 2007 Kyoto Protocol. To move to a scalable and reasonably priced system we need to update the methods to the state-of-the-art.

Our Linda Forest solution covers at time of writing 6 million hectares of forest land. The forest inventories it provides to its users are verifiably more accurate than field visits and alternative conventional solutions. We have proven that it is possible to model forests accurately by combining:

  • Remote sensing
  • Big data, with the integration of all available data sets
  • Artificial intelligence.
Chart 7: Visualisation of Linda Forest data layers

By applying our solution to forests in the context of verification of carbon we can provide the information carbon trading requires accurate, timely and scalable. This enables investment and trading on the scale required to mitigate the climate risks we are facing.

An important aspect of scaling the trading system is the facilitation of trading via a system that is efficient, secure and ideally enabling a secondary market for carbon trading. Blockchain technology can provide such a trading infrastructure that is also inherently secure against double-dealing of the same underlying assets and commodities.

However, applying our solution and others to enable a scalable and efficient carbon trading platform will require a more flexible approach towards the current process of validation, certification and verification as described above. Insisting on a process involving 5-yearly field visits will not deliver the scalable and efficient carbon trading system the world needs.

Putting remote sensing at the heart of a future calibration system dramatically reduces costs and makes more off-set project viable.

Contributors: Venla Pirhonen, Rolf Schmitz

References

Carbon credit trading volumes and pricing data: Ecosystem Marketplace

CollectiveCrunch is an AI leader in forestry. We help our customers make precise data-driven decisions powered by the latest technology.

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